PJM price formation proposal would dramatically change how prices are set in the RTO

PJM price formation proposal would dramatically change how prices are set in the RTO

PJM has engaged in market reforms before. Most recently with the establishment of a capacity performance (CP) product in the wake of the 2014 polar vortex. But PJM’s new price formation proposal goes beyond anything the RTO has attempted in the past. It also takes aim at issues raised in the Energy Department’s notice of proposed rulemaking (NOPR) now before FERC that is examining ways to ensure resiliency by finding ways to compensate baseload resources.

PJM’s price formation proposal is aimed at allowing both flexible and flexible generating units to set prices as a way of more accurately reflecting the true costs of serving load.

The proposal is, in part, designed to offset the continuing penetration of zero marginal cost resources, declining natural gas prices, greater generator efficiency and reduced generator margins resulting from low energy prices have resulted in “a generation mix that is differentiated less by cost and more by physical operational attributes.”

To address that, PJM wants to change its rules to provide greater incentives to inflexible units that are not able to ramp up or down quickly to respond to market signals quickly and often bid into the market as price takers.

The proposal is “resource agnostic” and “neutral” with regard to fuel types, Stu Bresler, PJM’s senior vice president for operations and markets, told reporters on a call to discuss the proposal. The proposal says that inflexible units include, “any fuel type, including coal, nuclear and large gas units that are inflexible based on either their technology or the way they purchase natural gas.”

To provide those incentives, PJM has proposed splitting its energy market into two parts, a “dispatch run” and a “pricing run.” In the proposal, PJM calls the LMP methodology it has been using for these past several years “restricted LMP.” PJM now wants to introduce an “extended LMP.”

Among the failings of restricted LMP, the proposal says, is that it can “inappropriately” lower energy prices and require uplift, or make-whole, payments to be made to units that are deemed uneconomic under that price regime. PJM says those payments are “detrimental to the overall operation of the market,” because they are paid by all market participants, and participant are not able to predict or hedge against them.

PJM says the increase in energy prices that its price formation proposal would bring would be partially offset by reductions in capacity market payments. Overall, however, the proposed enhancements would result in a net increase in combined energy and capacity market costs of 2% to 5%.

“We need to more accurately reflect the resources required to serve load, to incent flexible resources, and to minimize out-of-market uplift payments. We need to begin the stakeholder discussion and consideration of our proposal,” Bresler said in a statement.

In a preliminary assessment of the impact PJM’s proposal, Bank of America Merrill Lynch analyst Julien Dumoulin-Smith estimated the changes could result in a $3/MWh to $4/MWh increase in PJM LMP.

Dumoulin-Smith also noted the similar intent of PJM’s proposal to the NOPR now before FERC that is looking at ways to compensate baseload resources for resiliency. He estimated that FERC might not pursue “a true resiliency path,” but instead would ask RTOs to review their own resiliency policies and that, he said, could “open the door” for PJM’s price formation proposal.

This dovetails with a possible interim plan from FERC Acting Chairman Neil Chatterjee. In an exclusive with Utility Dive, Chatterjee said the Commission could issue a “show cause” order directing ISOs and RTOs to update their tariffs to keep plants operating that demonstrate “necessary resilience atttributes.”